EXCHANGE-TRADED FUNDS

There is wisdom in investing in hard currencies, and diversification spreads the risk

There’s nothing like a steep fall in the value of the rand to sharpen one’s mind about the importance of being geographically diversified — my mind included.

And like many others, I’ve missed that boat all too often.

As the rand hit new lows against the pound and the dollar last month, the value of holding a portion of your investments in a hard currency became clearly evident. At the time, Deutsche Bank was lauding the success of its db x-tracker series of ETFs in the local market, having just passed R10bn in assets under management. If you look at the performance stats, they are pretty impressive. At the end of 2014, assets under management were at R2,5bn, so they’ve grown fourfold since then.

Sure, they’ve been helped along by the bull market of the past few years, but the rand’s steady decline against developed-market currencies has done its part in generating returns for South African investors with an offshore focus.

Not only do you get exposure to other currencies, but offshore diversification also gives you exposure to economies and markets that may perform better than our own in the future.

The DBXUS tracker, which tracks the MSCI USA index, is the stand-out performer, with a return of more than 29% in the year to end July. It also leads the pack over three and five years, delivering 33,8% and 27,7% over those periods.

But you’d have done pretty well had you been in Deutsche’s MSCI Japan and MSCI World funds over the past year too.

The US fund is by far the most popular, attracting a third of the funds that are invested in the five global ETFs offered by Deutsche in SA. The DBX World is the next favourite, but the currency effect gets diluted; while the ETF is dollar denominated, the underlying stocks trade in the currency of the exchanges they are listed on. So while the US makes up over half of this ETF, you’re also taking a bet on how currencies like the yen, the euro and sterling will perform.

While the Deutsche trackers are the only ETFs invested in offshore markets — for now — they are not the only game in town if you want offshore equity and currency exposure.

BNP Paribas introduced a series of exchange-traded notes a year and a half ago, which etfSA’s Nerina Visser says provide an interesting alternative for investors. The BNP Paribas Guru ETNs offer exposure to markets that include Europe, Asia and the US, as well as a world ETN. They are not market-capitalisation weighted, so you get the international exposure using smart beta. Visser suggests mixing the two in larger portfolios, depending on your investment objectives. The BNPUS has delivered almost 10% over three months and more than 28% over a 12-month period. The BNPEur has returned only 2,5% over three months, but 24% over a year. You’d have lost 15% with the BNPAsi over three months, but made a positive 10% return over 12 months. Similarly, with the BNPWor, you’d have shed 2,4% of your investment over three months, but made more than 17% over a year.

In addition to Deutsche’s locally listed ETFs, it also offers three ETNs that give exposure to emerging markets, China and Africa, though the latter includes a large South African component. Hardly surprising, then, that the MSCI EFM Africa shows negative returns over the short term but that over three years you’d have achieved close to 15%.

If you don’t want to take a bet on how offshore equities will perform, but want the currency exposure, another alternative is a currency ETN offered by Absa Capital. The NewWave Pound Sterling ETN returned over 10% in the three months to September 3, while over 12 months it delivered more than 17%. Over the same three months, the NewWave US Dollar ETN returned 9%, but over 12 months a mouthwatering 24%.

For those who have missed the boat on those returns, all is not lost. Deutsche’s ETF head Wehmeyer Ferreira reminds us that offshore allocation is not a short-term decision; you have to be looking far ahead. You will also see periods when the rand strengthens against the dollar, euro and pound, while emerging market equities may outperform developed market stocks for periods. It’s about spreading your risks through diversification.